THE DAILY EDGE (24 January 2017)

(…) Amid a round of meetings with business leaders, labor union representatives and members of Congress, Mr. Trump signed a memorandum withdrawing the U.S. from the Trans-Pacific Partnership, a 12-nation trade deal that he claims would have resulted in lost U.S. jobs. He also pledged to cut taxes and regulations that he said were blunting job growth and promised to impose a “very major” border tax on companies that move some operations overseas, which would require legislation.

Mr. Trump said he would work with Congress to cut taxes for the middle class and businesses, as well as reduce government regulations by at least 75%. Regulations, he said, have “gotten out of control.” He promised incentives for businesses that produce and hire in the U.S. but warned the leaders, “If you go to another country…we are going to be imposing a very major border tax.”

“We don’t have free trade because we’re the only one that makes it easy to come into the country,” he said.

The January flash PMI is signalling respectable quarterly GDP growth of 0.4% with a broad-based expansion across both manufacturing and services.

Perhaps the most encouraging development is the upturn in hiring, with January seeing the largestmonthly rise in employment for nine years amid improved optimism about the year ahead.

Firms’ expectations about the year ahead are running at the highest for at least four-and-a-halfyears, highlighting how political risk continues to be widely eschewed, with companies focusing instead on expanding their sales in the coming year.

It’s not all good news: with costs rising steeply due to higher commodity prices and the weak euro,while selling price growth remains subdued, margins are being squeezed to the greatest extentfor over five years. However, the recent strengthening of demand is at least starting to helprestore some pricing power among suppliers, hinting at an upturn in core inflationary pressures.”

Flash Japan Manufacturing PMI™ at 52.8 in January (52.4 in December), highest since March 2014.

Flash Manufacturing Output Index at 53.3 (53.8 in December).

Production increases at solid pace.

Newly-launched business expectations index at 44-month high.

Manufacturing conditions improved at the strongest rate in nearly three years, helped by solid expansions in both output and new orders. The rise in total incoming new orders was driven in part by a sharp increase in international demand, as new export orders rose at the quickest rate in over a year. Meanwhile, inflationary pressures picked up to the greatest since March 2015.

President Donald Trump’s pick for budget director Mick Mulvaney said the nearly $20 trillion national debt is the equivalent of an ordinary American family owing more than a quarter of a million dollars on their credit cards, a problem that needs to be “addressed sooner rather than later.” (…)

Mulvaney has voted against debt ceiling increases and criticized House Speaker Paul Ryan’s budgets for spending too much. If he’s installed in the post — and given the leeway to negotiate his way — the next debt-limit debate could include a fight over whether future spending should be cut to offset money spent in decades past. The debt limit returns in March, so those discussions aren’t far away. (…)

Early January’s Blue Chip consensus projection of a 5.0% annual increase for 2017’s pre-tax profits from current production may be incompatible with the accompanying forecast of a 4.4% annual increase by 2017’s nominal GDP. Only if employment costs slow from their 4.7% annual climb of the year-ended September 2016 might nominal GDP growth of 4.4% deliver profits growth of 5.0%. However, if the recent 4.7% unemployment rate correctly indicates rising wage pressures, a deceleration by employment costs seems unlikely.

As inferred from the strong 0.87 correlation between the annual yearlong growth rates of corporate gross value added and nominal GDP, the consensus prediction of 4.4% nominal GDP growth favors a 4.1% annual gain for 2017’s corporate gross-value-added, where the latter is a proxy for corporate revenues. (…)

Combining 2017’s prospective annual increase of 4.1% for gross value added with 4.7% employment cost growth predicts a 2.5% midpoint for the annual increase of 2017’s pretax operating profits. To the contrary, the equity and high-yield bond markets may be pricing in faster growth rates of 4.9% for gross-value-added and 5% for employment costs, where such assumptions support a predicted midpoint of 5% for core profits growth. However, 4.9% growth by gross-value-added may require faster-than-forecast nominal GDP growth of 5%.

As mentioned in The Lady and the Trump, RBC Capital’s research shows that 4.4% nominal GDP growth would translate into 5% revenue growth for S&P 500 companies, somewhat higher than Moody’s +4.1% estimate.

According to Factset, for all of 2017, analysts are projecting earnings growth of 11.4% and revenue growth of 6.0% for the S&P 500 Index…

(…) We know that fiscal policy packs more punch when the economy has more slack and when the spending or tax cuts are well targeted to produce demand. Both conditions held, at least partly, in 2009. Neither will hold in 2017, with the economy approximately at full employment and Mr. Trump’s proposed tax cuts heavily skewed to the rich.

Besides, the Federal Reserve will be making sure the economy doesn’t overheat. Fed officials must be shaking their heads in disbelief. For years they practically begged Congress to help lift the economy out of the muck by stimulating demand; but Congress did the opposite. Now, with stimulus no longer needed, Congress is poised to deliver it. The predictable result will be higher interest rates. (…)

A 2016 comprehensive review of the voluminous scholarly research on the supply-side effects of tax cuts by economists William Gale (a Democrat) and Andrew Samwick (a Republican), concluded that “U.S. historical data show huge shifts in taxes with virtually no observable shift in growth rates.” But cutting top bracket rates does redistribute income from the have-nots to the haves. And that, I suspect, is why stock traders cannot contain their glee. (…)

The idea of building more infrastructure is a good one, though near-term stimulative effects would be small. (…)

Much the same can be said of erasing regulations. Some of them deserve to go, but only magical thinking will produce large growth effects from doing so. (…)

Mr. Trump’s best hope for a supply-side miracle is sheer luck. Here’s why: Long-run growth is fueled mainly by technical progress. But the upward march of technology—or, more precisely, its effect on GDP—slowed abruptly during the George W. Bush administration and did not revive under President Obama. Specifically, what economists call “multifactor productivity growth”—think of it as getting more output from the same inputs—averaged a robust 1.6% per annum between 1995 and 2005 but then plummeted to 0.4% per annum between 2005 and 2015. Economists have some hunches about what caused this, but no one really knows.

Since no one knows why productivity growth collapsed, no one knows when it might snap back. If President Trump is as lucky as candidate Trump, the multifactor productivity growth rate might mysteriously bounce back to, say, its 1948-2005 average—which was 1.3%. Should that happen, 2.2% growth would turn into 3.1% growth without the Trump administration lifting a finger—and without any help from Vladimir Putin.

No sensible person would bet on such an outcome. But then again, no sensible person bet on Donald Trump becoming president.

FYI: Bankers Cash In on Postelection Stock Rally Executives at Goldman Sachs, Morgan Stanley and J.P. Morgan have sold nearly $100 million worth of stock since the Nov. 8 election, according to a Wall Street Journal review of securities filings.

WHAT’S IN A P/E?

Last week I wrote about an investment counsellor which remained gung-ho on equities despite elevated P/Es. Here’s another chart (from Ned Davis Research) to add to those inserted in that post (sorry I lost the secondary source):

Comments

Your chart discussing P/E ratios and future returns is the CAPE ratio…no? Why are you providing that information when part of the foundation for this site is how useless the CAPE is and why the Rule of 20 works better?

I stand to be as thorough as possible and provide readers with useful tools. CAPE has been useless this cycle mainly because of the way it treated earnings in 2008-09. I look forward to post 2019 when legacy heavy losses will disappear from the 10 yr avg. Also, this is a 10 yr chart to add to the importance of buy low.

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